Monday, June 09, 2008

Internal Margin for your trades

After 3 months of fine trading earlier this year I find myself in a consolidation. My trading results going up, then down, then big down, then up again. As if something in me has changed. Reading this article from Dr. Brett Steenbarger "Getting off the Performance Roller-Coaster" think I found what was going wrong. Overconfidence in my ability to read the longer term market direction correctly. Going so far that I no longer cared where my entry really was, as the contracts I traded were showing such a high volatility, that nearly all trades would show me a profit sometime after my entry. But I coupled that with a desire to squeeze more and more ticks out of the individual trade seeing 50 to 100 tick moves and thinking, that I should be able to get more than 30% out of these moves. Therefore, even with a bad entry I stayed in trades longer than warranted and I did not take the chance to exit when it was offered as I expected follow-through which never materialized as I traded against a longer term trend.

The first time in my trading career I'm going through such a consolidation and I'm not standing with my back at the cliff, where one misstep will throw me in the broken account chasm. And by chance I followed a link to Henry Carstens. In his "Introduction to Testing Trading Ideas" article I found something extremely valuable:

A formula to calculate the Minimum Margin you should apply to all your trades.

You need to know the maximum loss sustained in one individual trade and your Win% and Loss% numbers. I've taken the numbers for 2008, but that's up to you of course. Just make sure, that the number of trades done within the time selected is high enough to give an accurate picture of your trading.

Minimum Margin = (Largest Loss) / (((( 1 + (W% / L%))*W%) - 1) / (W% / L%))

My largest loss this year so far was 5812$, my Win% rate is 63% and my Loss% rate is 12%, the remainder are breakeven trades. I made 377 trades which is high enough to give me statistically meaningful results for my Win% and Loss% rate.

So my Minimum Margin calculates as:
MM = 5812$ / (((( 1 + (63%/12%))*63%)-1)/(63%/12%) = 10347$

I always knew, I should not use less than 10k$ / contract traded and I did so for 3 months, but I violated that rule during the last 4 weeks, when I tried to convince myself to increase size. I did not feel comfortable, but I couldn't put my finger on it, telling myself that I'm just anxious to increase size. Now I have something measurable, something which tells me when it is ok to increase size and when I should still wait.


Anonymous said...


Maybe you find interesting this:


Francisco aus Baires

markus said...


does this mean your largest loss on one trade was 5812 USD?
Are 25% of your trades break-even? That's really a lot!
In my own trading analysis I have only winners or losers because I have to pay commission. Therefore a break-even trade actually never shows up (even if it would be possible if gains cover exatly commissions).
Do you think about correalations if you trade various instruments at the same time?


Globetrader said...

Hi Markus,

that's correct 25% of my trades are breakeven. But it seems we have a different notion about breakeven trades. Any trade which I close at +1 tick or +2 ticks is considered a breakeven trade. Anything below is a loss, anything above is considered a winning trade.
And yes, my highest loss this year was 5812 USD. It wasn't a good day that day, but I think I have said that in the past: You can't expect to transition to higher profits without taking higher risks. And from time to time stupid decisions come together and you are left without a big chunk of your account.
Still it has payed off for me and fortunatly these extreme losses are not common place or I would be out of business very fast:-)
Best regards,


markus said...


thanks for your reply, but I am not sure if I got it: It was 5812 USD lost on one trade or was it a one day loss (or both).
Anyway it is a huge amount in percentage terms if I guess right (35% -50%?) For me it would be much to much even for one year. It seems you rival Livermore a bit ;-)
Risk mgmt. includes position sizing and it is very important for consistent and growing success. I tried this tool last year and it presented me with some nice insights (I think I mentioned it a while earlier):

What helped me a lot in becoming cosistently profitable was specializing in 2 correlating markets with one flexible method over 4 timeframes and a strict and proper risk mgmt.



Globetrader said...

it was one trade on that day when Soc. Generale caused the minicrash. I was long 2 FTSE contracts and I had used Stoplimit orders which were jumped over and not executed. There was a round number nearby, which I thought would provide support after my stops were not executed. The round number was of no importance and we just fell further very fast.
Yes it was a big loss (about 35% at the time) but it taught me to use stopmarket orders always, so I learned even from that loss.
Position sizing is fine, but I was trading max 2 contracts at that time (actually I'm still trading max 2 contracts, I just increased the profits I take from winning trades by holding out for more of the move) so there is not a lot to do with position sizing.
I trade and watch correlated markets all the time over 3 timeframes and I agree that that was one ingredient to be successful.
Best regards,